Watts 2003 Review

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Watts (2003) Conservatism in Accounting Part I: Explanations and Implications
Paper Review
ACCT 3040 Advanced Accounting Theory and Practice
Mr Terry Harris

Conservatism is one of the fundamental principles of accounting and its application in financial accounting has recently become a highly controversial issue involving a variety of views as there is a desire for financial accounting information to be neutral.
Conservatism has lasted in the accounting practice for many years and has become more popular over the past 30 years. In addition, Basu (1997) and Sterling (1970) made statements that lead us to believe that conservatism’s influence on accounting practice has been long and significant. Sterling (1970) argued that conservatism is the most influential principle of valuation in accounting agreeing with Basu (1997) who argued that it has influenced the accounting practice for at least 500 years.
Professor Ross L Watts wrote two papers on the conservatism in financial accounting. Paper I sought to examine alternative explanations for conservatism in accounting and their implications for accounting regulators while Paper II is aimed at looking at the empirical evidence on conservatism, its consistency with alternative explanations and opportunities for future research.
The paper under review is Paper I and the objectives of this paper are to discuss the explanations for conservatism and draw implications for regulation and standard setting. In this paper, it can be seen that Watts tries to develop a general contracting explanation for conservatism that holds with the existing debt contract dividend constraint explanation (Watts 1993), predicts that other contracts employed within the firm will also generate conservatism and argues that even without contracting considerations, an information perspective produces conservatism…...

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